Budget Day on Monday! Whatever next. It was tough accepting the abolition of the Spring Budget. OK, the origins were based on a land tax in a predominantly agrarian society. Even so
tradition demanded a Wednesday delivery at least. It has been on a Wednesday every year since 1962. It hasn't been on a Monday since beyond the temporary introduction of income tax in 1799. Probably for good reason.
Chancellor Philip Hammond was ready to deliver the budget on Wednesday 31 October. Treasury aides pointed out to him that it's actually Halloween. With an average age of 31 years, HM Treasury staff had other plans presumably. Pity really it would have made for some spectacular headlines. Now we must speculate on the "trick or treat" contents of the Red Box.
The Chancellor is off to a good start with borrowing for the current year expected to be well below forecasts. In the first half of the financial year, borrowing was just £19.9 billion compared to £31 billion last year. Retail sales growth of over 5% in the period had generated VAT revenues up by 6%. Income and Capital Gains Tax revenues were up by over 7%. For the year as a whole, borrowing is expected to fall to less than £27 billion compared to £40 billion last year. Within two years it seems plausible the books could be balanced, assuming ongoing growth of around 1.5% in this year and over the next two years.
Herein lies the first dilemma for the Chancellor. It is the delicate matter of Brexit. A hard or soft outcome could affect the growth and revenue figures in the year a head. According to NIESR, their soft Brexit central forecast for GDP growth is 1.9 per cent in 2019. Under a hard Brexit scenario, economic growth slows to just 0.3 per cent. The spread is equal to £10 billion in potential or lost revenues to the Exchequer.
So what can we expect in the budget? Herein is the second dilemma. Hammond would love to offer a balanced budget within a two year horizon. The Prime Minister has promised some £20 billion for the NHS and an end to austerity. One Nation Tories are demanding a fix for Universal Credit of around £2 billion to £3 billion. Hints of £1.5 billion to ease high street rates and development plans in town centres have emerged over the week-end. More money for potholes in the North and for big holes in the South East is expected. Backbenchers would like to see a cap on Fixed Odds Betting Terminals at a cost to the Treasury of £0.4 billion.
So how to bridge the gap? The Americans have warned this week against a tax on US tech giants. A freeze on fuel duty has already been announced. The Chancellor would be wise to cancel the corporation tax cuts from 19% to 17% saving some £5 billion. What is so special about a 19% tax rate anyway. A reversion to 20% would save some £8 billion in total. Better that, than an unwise attack on pension contributions and pensioners specifically.
Growth is the solution to the Chancellor's dilemma. The Brexit impact will not be as severe in the first year as NIESR suggests. Revenues will be higher next year but spending must be increased. Austerity has run it's course. Voters in every income bracket are concerned about a break down in law and order and the availability of first line emergency care. An expansive budget could push growth to 2% in 2019 and 2020. No need to worry about Brexit as the transition process drags into the next decade ...
US economy up by 3% in Q3 ...
Preliminary figures suggest the US economy grew by 3.0% in the third quarter of the year, following growth of 2.9% in the second quarter. We expect growth of around 3% for the year as a whole. The White House tax cuts and spending plans are fueling growth.
Consumer spending was up by 3%, spending on durable goods was up by 6%. Investment increased by over 5% in the quarter. Investment on capital goods was up by 6%. It's all good news for President Trump ... or is it?
Government borrowing is taking a hit with borrowing set to hit the $ trillion dollar level in the current financial year. The trade deficit is also taking a hit. In Q3 imports of goods and services increased by almost 6%. Goods imports increased by 6.5%. Exports in comparison, were up by just 4%. There may be some element of front running ahead of tariffs in the data but strong growth in the US will result in a higher trade deficit despite the introduction of trade barriers with China and the rest of the world.
So far the evidence on tariffs is mixed. Caterpillar warned the US trade war with China was driving up the costs of raw materials and overshadowing the outlook for growth in the medium term "Material costs were higher primarily due to increases in steel prices and tariffs." the claim.
Ford warned of a deteriorating outlook for sales in China. BMW announced plans to take control of the Chinese joint venture and to expand production on the main land. Harley Davidson announced earlier in the year, plans to relocate some production outside of the USA.
Trump's tariff plans will create problems for the US economy. The trade war with China will not provide any solutions for Uncle Sam in the short or medium term. Exports to China are founded on agriculture and raw materials. Soybeans, cotton and corn feature along with copper, coal and aluminum. Aircraft, vehicles and machinery account for 40% of exports. Relocation to China and South East Asia will figure in forward plans for manufacturers, as new alliances are formed in the largest trading block in the world. Tariffs will push them into relocation.
The Largest Trading Block in the World ...
Prime Minister Shinzo Abe was in China this week along with a big trade mission from Japan. From competition to co-operation the mantra, the two nations signed a broad range of agreements including a $30 billion currency swap pact.
Japanese firms including Toyota are planning on a normalisation of ties with China. They seek to compete with US and European rivals as diplomatic tensions ease between the two nations.
The prize for all is the unification of Korea within an economic trading block at least. This week the scariest place on earth just got a little less scary. North and South Korea removed all weapons and ammunition from the Joint Security Area. South Korean President Moon Jae-in and North Korean leader Kim Jong Un have vowed to turn the entire DMZ into a peace zone. Earlier this month the leaders agreed to begin the re connection of road and rail links promising easier passage for families, friends and tourists!
Economic co-operation would accelerate growth and equalization. South Korea has a population of 51 million and a GDP per capita of $33,000 dollars. The North has a population of 26 million and a GDP per capital of just $600 dollars. A move to equalization, would ensure, the Korean peninsula would become the eighth largest economy in the world. Together, China, Japan and Korea would form an economic area larger than the USA, Canada and Mexico.
Australia, New Zealand, Malaysia, Singapore and Vietnam would form part of the new South East Asian trade block. China, with growth of 6.5% this year is the second largest economy in the world. With a population of 1.4 billion, China still struggles to enter the top 50 in the world in terms of GDP per capita. The potential is huge.
Leaders around the world are concerned about the vagaries of the White House administration. Policy lacks coherence. Trump's tariff tantrums are becoming irrelevant as the world makes alternative plans. The move in South East Asia is so significant. Next Russian membership of the European Union. Where then would sit Uncle Sam ...
That's all for this week, have a great week-end, Don't Miss Our Monday Morning Update this week, we will expand further on market moves ...
The Saturday Economist
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